Federal Reserve Credit expanded $11.4bn last week to $1.989 TN. Fed Credit
has declined $257bn y-t-d, although it expanded $1.106 TN over the past 52
weeks (125%). Elsewhere, Fed Foreign Holdings of Treasury, Agency Debt this
past week (ended 8/12) increased $5.5bn to a record $2.816 TN. "Custody holdings" have
been expanding at a 19.3% rate y-t-d, and were up $421bn over the past year,
or 17.6%.

August 14 - Bloomberg (Ari Levy): "More than 150 publicly traded U.S. lenders
own nonperforming loans that equal 5% or more of their holdings, a level that
former regulators say can wipe out a bank's equity and threaten its survival.
The number of banks exceeding the threshold more than doubled in the year through
June... Almost 300 reported 3% or more of their loans were nonperforming, a
term for commercial and consumer debt that has stopped collecting interest
or will no longer be paid in full."

Government Finance Bubble Watch:

August 11 - Wall Street Journal: "Much to their dismay, Americans learned
last year that they 'owned' Fannie Mae and Freddie Mac. Well, meet their cousin,
Ginnie Mae or the Government National Mortgage Association, which will soon
join them as a trillion-dollar packager of subprime mortgages. Taxpayers own
Ginnie too. Only last week, Ginnie announced that it issued a monthly record
of $43 billion in mortgage-backed securities in June. Ginnie Mae President
Joseph Murin sounded almost giddy as he cheered this 'phenomenal growth.' Ginnie
Mae's mortgage exposure is expected to top $1 trillion by the end of next year
-- or far more than double the dollar amount of 2007... Ginnie's mission is
to bundle, guarantee and then sell mortgages insured by the Federal Housing
Administration, which is Uncle Sam's home mortgage shop. Ginnie's growth is
a by-product of the FHA's spectacular growth. The FHA now insures $560 billion
of mortgages -- quadruple the amount in 2006. Among the FHA, Ginnie, Fannie
and Freddie, nearly nine of every 10 new mortgages in America now carry a federal
taxpayer guarantee."

August 11 - Dow Jones (Gabriele Parussini): "The French budget deficit more
than doubled in the first half of this year, as the recession cut tax income
and the financing of the government's EUR26 billion economic stimulus plan
boosted expenditure, the Budget Ministry said... France's government budget
deficit is likely to swell to between 7% and 7.5% of gross domestic product
both this year and next, Budget Minister Eric Woerth said in June..."

Currency Watch:

The dollar index declined 0.2% this week to 78.79. For the week on the upside,
the Japanese yen gained 2.9%, the Mexican peso 0.9%, the Swiss franc 0.8%,
the New Zealand dollar 0.7%, the Norwegian krone 0.6%, the Danish krone 0.1%
and the Euro 0.1%. On the downside, the Canadian dollar declined 1.6%, the
Brazilian real 1.6%, the South African rand 1.4%, the South Korean won 1.2%,
the British pound 0.9%, and the Australian dollar 0.7%.

Commodities Watch:

August 11 - Bloomberg: "China bought record volumes of oil and iron ore in
July as automakers, steel producers and builders expanded output to meet rising
demand... Oil imports jumped 18% to 19.6 million metric tons, and iron ore
purchases rose 5% to 58.1 million tons from a month ago..."

August 11 - Bloomberg: "China's industrial output and retail sales grew more
quickly as exports slumped, underscoring the economy's dependence on stimulus
spending and record bank lending to maintain a recovery. Industrial production
climbed 10.8% in July from a year earlier... retail sales rose 15.2%... Exports
fell 23%... China's economy will grow 9.4% this year, topping the government's
8% target, Goldman Sachs Group Inc. said..."

August 11 - Bloomberg: "China's new lending in July fell to less than a quarter
of June's level as banks sought to limit credit risks and the flow of money
into stocks and property. Banks extended 355.9 billion yuan ($52 billion) of
local- currency loans, down from 1.53 trillion yuan in June... M2, the broadest
measure of money supply, rose 28.4%."

August 13 - Bloomberg: "Chinese companies will need to boost yields on some
new corporate bonds to make them more competitive as the government seeks to
spur investor interest in fixed- income securities. New five-year notes in
the interbank market -- the biggest of China's three corporate bond markets
-- must offer a minimum 4.2% yield..."

August 13 - Bloomberg: "China, the world's largest market for cellular phones,
may have as many as 240 million users of the so-called third generation mobile
devices, said the minister of industry and information technology Li Yizhong."

Japan Reflation Watch:

August 14 - Bloomberg (Yusuke Miyazawa): "Japanese bond sales may exceed a
record $109 billion this year as companies led by Toyota Motor Corp. take advantage
of borrowing costs lowered by government efforts to end the nation's worst
postwar recession."

August 12 - Bloomberg (Mayumi Otsuma): "Japan's producer prices fell at a
record pace in July... The costs companies pay for energy and unfinished goods
declined 8.5% from a year earlier..."

India Watch:

August 12 - Bloomberg (Kartik Goyal): "India's industrial production increased
at the fastest pace in 16 months in June... Output at factories, utilities
and mines jumped 7.8% from a year earlier after a revised 2.2% gain in May..."

August 14 - Bloomberg (Anil Varma): "Money supply in India grew 20% in the
two weeks ended July 31 from a year earlier, compared with 19.8% in the prior
14-day period..."

August 12 - Bloomberg (Kartik Goyal): "India's 7% economic growth target may
be jeopardized as the weakest monsoon rains in five years threaten harvests,
according to economists."

August 13 - Bloomberg (Jason Gale): "Orbiting satellites measuring the gravitational
pull of water below the earth's surface confirm what authorities in India suspected
for more than 20 years: groundwater is shrinking in some of the nation's driest
areas."

Asia Bubble Watch:

August 12 - Bloomberg (Seyoon Kim): "South Korea's unemployment rate fell
for the first time in nine months in July... The jobless rate dropped to 3.8%
compared with 4% in June..."

August 12 - Bloomberg (Seonjin Cha): "Kia Motors Corp., South Korea's second-biggest
carmaker, more than quadrupled quarterly profit to the highest since 2003 as
domestic and Chinese sales allowed it to avoid the worst of a global auto market
meltdown."

August 13 - Bloomberg (Jason Folkmanis): "Vietnam's inflation may accelerate
to 8% by year-end from the slowest pace since 2004 amid higher gasoline prices,
according to Vinacapital Investment Management Ltd."

August 12 - Dow Jones (Joe Parkinson): "U.K. unemployment jumped more than
expected to its highest level for 14 years... U.K. unemployment rose by 220,000
to 2.43 million in the three months to June... That pushed the unemployment
rate to 7.8%..."

August 13 - Bloomberg (Simone Meier): "The euro region's economy barely contracted
in the second quarter as Germany and France unexpectedly returned to growth...
Gross domestic product fell 0.1% from the first quarter, when it plunged 2.5%..."

August 14 - Bloomberg (Emma Ross-Thomas): "Spain's economy contracted more
than forecast in the second quarter, suggesting a recovery in Germany and France
has yet to reach a country that was once an engine of growth for the euro region.
Gross domestic product declined 1% from the previous quarter...."

August 13 - Bloomberg Radoslav Tomek and Zoltan Simon): "Recessions in Hungary
and Romania deepened and Slovakia's gross domestic product contracted for a
second quarter... Gross domestic product in Hungary shrank an annual 7.6% in
the second quarter, Romania's GDP contracted 8.8% and Slovakia's output dropped
5.3%, according to state statistics offices..."

August 11 - Bloomberg (Paul Abelsky and Alex Nicholson): "Russia's economy
contracted the most on record last quarter... Gross domestic product contracted
an annual 10.9% in the second quarter, the Federal Statistics Service said..."

August 12 - Bloomberg (Paul Abelsky): "Russia's inflation rate for the year
reached 8.2% as fuel and food costs increased."

Bursting Bubble Economy Watch:

August 10 - Bloomberg (Linda Sandler and Andrew M. Harris): "Consumer bankruptcies
show no sign of abating after rising more than a third this year and may hit
1.4 million by Dec. 31... according to the American Bankruptcy Institute."

August 13 - Bloomberg (Timothy R. Homan): "Sales at U.S. retailers unexpectedly
fell in July, raising the risk that consumers will keep cutting back as job
losses mount and temper a recovery from the worst recession since the 1930s.
Purchases decreased 0.1%, the first drop in three months..."

Central Banker Watch:

August 12 - Wall Street Journal (Lingling Wei and Jon Hilsenrath): "The Federal
Reserve, with $900 million on the line, is getting actively involved in the
biggest hotel bankruptcy, an awkward role for the central bank... On one hand,
the Fed is clearly concerned that the bankruptcy of the 680-property Extended
Stay Inc. chain has exposed major fault lines in the commercial real-estate
market... On the other, the Fed's role is tricky because it is facing off against
financial firms it has to deal with in other rescue matters."

August 14 - Bloomberg (Jacob Greber): "The Reserve Bank of Australia will
have to raise the benchmark interest rate from its "emergency" level at some
stage as the economy rebounds from the global recession, bank Governor Glenn
Stevens said."

Fiscal Watch:

August 12 - Bloomberg (Rebecca Christie): "The U.S. budget deficit reached
a record for the first 10 months of the fiscal year and broke a monthly high
for July... The shortfall so far for the fiscal year that ends Sept. 30 totaled
$1.27 trillion compared with a $389 billion y-t-d gap in 2008... The excess
of spending over revenue for July climbed to $180.7 billion... Spending for
the month of July rose 26% from a year earlier to $332.2 billion, while revenue
fell 6% to $151.5 billion... For the fiscal year that ends Sept. 30, the Office
of Management and Budget forecasts the deficit will reach a record $1.841 trillion,
more than four times the previous fiscal year's $459 billion shortfall."

MBS/ABS/CDO/CP/Money Fund and Derivatives Watch:

August 11 - Bloomberg (Dan Levy): "Almost one-quarter of U.S. mortgage holders
owed more than their homes were worth in the second quarter and that figure
may rise to as much as 30% by mid-2010 as job losses and foreclosures climb,
Zillow.com said... 'The negative-equity rate will rise and spin off more foreclosures,'
Stan Humphries, Zillow's chief economist, said... 'I see a substantial downside
risk to prices and don't think we'll see a bottom until the middle of next
year.'"

Real Estate Bust Watch:

August 13 - Bloomberg (Dan Levy): "Foreclosure filings in the U.S. climbed
to a record for the third time in five months in July as falling home prices
and the recession left more homeowners unable to keep up payments or refinance.
A total of 360,149 properties received a default or auction notice or were
seized last month, according to... RealtyTrac Inc. One in 355 households got
a filing, the highest monthly rate in RealtyTrac records dating to January
2005..."

GSE Watch:

August 13 - Wall Street Journal (James R. Hagerty): "The Federal Home Loan
Banks reported that their combined net income in the second quarter increased
56% from a year earlier to $1.12 billion. Results at the 12 regional banks
benefited from $979 million of net gains on derivative contracts and hedging
activities, compared with $364 million of such gains in the year-earlier quarter."

Muni Watch:

August 14 - Bloomberg (Jeremy R. Cooke): "State and local government bonds
approached 10% returns for 2009, marking their best performance in nine years,
as the municipal market absorbed about $10.4 billion of fixed-rate bonds this
week."

California Watch:

August 13 - Bloomberg (Michael B. Marois and William Selway): "California
will stop using IOUs to pay its bills in early September, lifting a burden
on businesses, taxpayers and municipalities that received $2 billion of the
registered warrants instead of cash... State Treasurer Bill Lockyer said he
plans to sell $1.5 billion of notes by Aug. 28 to meet cash needs, followed
by $10.5 billion of such short-term loans in mid-September."

Reflation Contemplation

Stock prices traditionally lead economic recoveries. Securities markets tend
to react swiftly to loosened monetary conditions, while it takes some time
for loose Credit to work its way through to the bowels of the real economy.
Highly speculative markets react haphazardly, sloshing liquidity out and about.
As is commonly understood, employment conditions are a somewhat lagging economic
indicator. Most analysts have been content to read nothing of significance
from ongoing poor jobs and housing data. Overwhelmingly, the bulls rely on
faith - and history - that surging stock prices are discounting the usual "V" rebound.

Data this week should have those of the bullish persuasion on edge. July retail
sales were much weaker-than-expected (down 0.1% vs. expectations of a rise
of 0.8%). Retail Sales excluding auto sales were down 0.6% for the month (down
8.1% y-o-y), the largest drop since March's 1.1% fall. Looking back, there
was no mystery surrounding first quarter consumer weakness. But even after
a dramatic stock market recovery, July's Department store sales were down a
dismal 1.6% for the month (down 9.6% y-o-y). Even Wal-mart management commented
that their customers were "selective" and remained keenly focused on value.

Today's preliminary report on August University of Michigan Consumer Confidence
was also a big disappointment. The consensus called for this confidence reading
to jump three points to 69. The actual report came in down to 63 - to the lowest
level since those dark days of March. Readings on both "Economic Conditions" and "Economic
Outlook" dropped to five-month lows.

Yesterday, RealtyTrac reported that U.S. foreclosures jumped to a record 360,149
in July. This was up almost 7% from June and 32% higher than the year ago level.
And there's no relief in sight. American Bankruptcy Institute data had 126,000
Americans filing for bankruptcy in July, up 34% from a year earlier. It is
now expected that 1.4 million will file for bankruptcy this year.

Meanwhile, the economic optimists take comfort from this week's readings on
Non-farm Productivity, Wholesale Inventories, Industrial Production, and Capacity
Utilization. Positive data out of Europe and Asia also seem to confirm that
some type of global economic recovery has taken hold.

From my perspective, this week's data confirm important aspects of Credit
Bubble analysis. First, ongoing headwinds will restrain rebounds in U.S. housing
markets and household consumption - for an extended period. Second, the overall
U.S. consumption-based economy will lag those of most of our more manufacturing-oriented
trading partners. In short, we are witnessing anything but typical reflation
dynamics, and those expecting a typical U.S. recovery will be disappointed.
Our economy remains overly exposed to U.S. consumption, while having insufficient
manufacturing capacity (and resources) of the type to benefit significantly
from heightened global demand.

Returning to the stock market, I see nothing typical going on there either.
With the Morgan Stanley Retail Index and the Morgan Stanley Cyclical Index
up 56% and 49%, respectively, the marketplace apparently has no issue with
the recovery. I suspect these gains have been inflated by short covering. Indeed,
market dynamics likely explain much of the divergence between ongoing weak
underlying economic fundamentals and robust stock prices (especially in the
consumer arena).

Unusually large bearish hedges and bets had been placed against the (consumer-driven)
U.S. economy. Unprecedented fiscal and monetary policy crisis response stabilized
the Credit system, setting in motion a self-reinforcing unwind of "bearish" positions.
In the past, such a reflationary dynamic would have seen stock prices for the
most part accurately discount the future direction of economic activity. Stated
differently, the reversal of bearish positions (and resulting short "squeeze")
would traditionally have (reflating) stock prices portending recovery and a
return to the previous trajectory of economic performance. In general, a rejuvenated
Credit system - and the resulting recovery of financial flows - would ensure
that the "bear" case was proved wrong.

This time may be different. I would not be surprised if the confluence of
unusually large bearish positions, unprecedented policy response, and a resulting
major "squeeze" created a backdrop where the stock market was turned into a
rather poor foreteller of future prospects. From my vantage point, I certainly
don't believe stock prices today generally provide an accurate reflection of
underlying company fundamentals. And from an economic perspective, I suspect
the stock market is missing some key underlying dynamics that will shape future
economic performance.

In particular, equities seem to be discounting a return to business as usual
when it comes to the U.S. economy. Retail and the "consumer discretionary" sectors
have been among this year's stellar performers. And, yes, this does fly in
the face of my analysis of new economic realities and a permanently downsized
role for household consumption in the U.S. economy. At this point, I view this
as an anomaly at least partially explained by the hastened reversal of bearish
positions. But I also recognize that massive fiscal and monetary stimulus has
been implemented with the policy goal of sustaining the existing economic structure.
The market has been content to play this dynamic expecting policymaker success.

As I attempted to explain last week, I view the impairment of the stock market
discounting mechanism as a key facet of Monetary Disorder. The reversal of
bearish plays not only created huge buying power throughout the markets, it
decisively reversed The Greed and Fear Factor. Notwithstanding today's sell-off,
the bulls are greedy and the bears are on the run. And the more that inflated
stock prices entice shorting, the more games that can be played to "squeeze" the
timid bears.

The end result is a highly speculative stock market increasingly detached
from reality and vulnerable to wild swings in sentiment. Yet I don't expect
the emerging global reflation to this time disprove the U.S. bearish thesis,
although it will no doubt be a wild market ride.

The bond market was happy with this week's developments. The Fed confirmed
it will be especially unhurried in raising rates and ending quantitative easing.
Weak U.S. economic data was seen as confirming the bullish bond view. To be
sure, low market yields at home and abroad are imperative for global reflation
to gain a head of steam. And I would argue that (over-liquefied) bond markets
are subject to their own pricing anomalies. In contrast to stocks, bonds have
been fixated on U.S. economic vulnerabilities and the Fed, while content to
downplay reflation risks. This week's data doesn't have me second-guessing
the thesis of bond market vulnerability to global reflation dynamics. For bonds
as well, the backdrop is set for a wild, speculative market ride.